Government officials put trillions of taxpayer dollars on the line to guarantee risky bank assets — a strategy that could cause permanent and costly market distortions, a government watchdog says.
At the peak of the financial crisis, taxpayer money guaranteed assets worth $4.3 trillion to help banks ride out the panic. The programs, which essentially provided insurance against losses, helped stabilize financial markets but put far more taxpayer dollars at risk than Congress intended, according to the Congressional Oversight Panel.
The report, released today, says the guarantee programs became the single largest part of the government’s effort to calm the markets. And even though many of the programs have now expired, the guarantees still provide invisible government subsidies even to healthy banks, according to the report.
The panel makes periodic assessments of how Treasury is managing the $700 billion financial bailout Congress approved last year.
Guarantees “put more power in the hands” of Treasury and the Federal Deposit Insurance Corp. because “they’re not limited by the number of dollars Congress will authorize,” panel chairwoman Elizabeth Warren said in a call with reporters.
The Treasury Department leveraged limited bailout money to insure assets worth many times more. That allowed officials to risk far more taxpayer money than Congress intended, Warren said.
“It’s a very dangerous tool,” she said. “It did well this time but we might not always be so lucky.”
She worried in particular about the low upfront cost of offering the guarantees, which she said makes the approach “tempting — perhaps too tempting — as a way to subsidize troubled financial institutions.”
Insuring bank deposits did not attract the same scrutiny as the higher-profile capital injections that came directly from the $700 billion fund. That meant there was relatively little discussion about their unintended negative consequences: invisible, permanent subsidies to banks and price distortion in many parts of the market.
For example, when a major money market mutual fund threatened to “break the buck” last year, the Treasury Department temporarily guaranteed its assets to reassure investors that their money was safe. The actions spared investors the downside of their risk while allowing them to earn better returns than they would have in a normal deposit account.
Investors now assume that the government will step in if the funds teeter again, said Warren, also a Harvard Law School professor. She called that “an example of a free government subsidy in the marketplace.”
Taken together, these “implied guarantees” could lead banks to take excessive risk because they assume the government will be there to break their fall, the report says.
Analysts say the report shows that banks still rely on the potential for government support, even as the Obama administration trumpets repayments from banks as evidence that the government is withdrawing from the private sector. (AP)
